Through the centuries, investing in real estate has proved to be the key builder of wealth for many a self-made millionaire. Indeed, significant holdings in real estate are typically included in the portfolio of most wealthy people. Today we take a look at taking on the risks of investing in real estate.
An example is of the purchase of a house when an $800 000 house under foreclosure may be bought for about $500,000 during a depressed cycle of the economy. Say, you borrow through a 100 per cent mortgage the $500 000 needed at a six per cent interest rate. You secure the purchase and as soon as it was legally yours, you advertised it as an $800 000 property going for $700 000.
Your costs are the transactional costs at the bank, taxes, legal fees, possible minor repairs, sprucing up of the property, and advertising. Let’s say that these costs total some $80 000, and that you manage to get this house sold within a year. You would have made a cool profit of $120 000 from this investment of $80 000. This represents about a 50 per cent return on your investment.
Hopefully, you can imagine, in dealing with this investment, the range of risks we have been discussing. Although it is not likely that real estate will fall drastically in value even in an economic depression, it may take a longer time than expected to sell the property; the investor may dearly need the cash invested for a more urgent purpose during the interim; interest rate may rise drastically or the bank may demand a sizeable down payment.
Alternative, the daring investment approach may work out brilliantly, with all issues working in the investors’ favour. The investor may be so adequately rewarded that he regularly repeats this type of transaction, winning most of the time – thus, creating wealth and generating cash flow hand over fists, while others are dutifully working for a bare living.
An example of a property purchased under foreclosure was presented here in order to magnify the possible return. However, the normal real estate market presents numerous opportunities, too. Real property can be purchased and held for a number of years with the expectation, often realized, that a rewarding return will be made in terms of the capital appreciation or from the eventual resale. Â
A group of investors may also join in a real estate investment, thus sharing the risks and the return.
In this way, these investors may be in a position to consider different types and sizes of real properties. For example, the group investing may consider an apartment block, a hotel, an office building or a warehouse.
Different choices involve different risks, risks from the various financing capacity of individual group members as well as from the size and nature of the real estate property.
An investor can create hard cash, or value by this work, once the risks he takes play out how he would like. Many people who work hard for a living, don’t see these options. They typically believe that they must work hard for all they earn – they work hard, save, invest conservatively and borrow. These people limit their options. Â
Yet, they are also protecting themselves from the greatest risk that has caused real estate to be the major failure of many an investor – the risk of needing hard cash and not being able to realize it fast enough, if at all.
